Moneywise24 Personal Finance

In all the emotion and uncertainty of today’s turbulent markets, we tend to lose sight of the big picture. Well, at least I do. The human mind has the unrivaled ability to forget, or to distort memories and experience, or to think things are alright whereas they are not, or to think things are going down the drain whereas they won’t…

I bumped into a website today, which provides exactly that: the big picture. Which crises did we have in the past, how did the major exchanges develop during the past 100 years, and where do we stand today in comparison to past major bear markets?

Since I am not in favor of simply copying material, below are the links in question:

• S&P 500 Index: Current Market Snapshot (Daily closes from 10/9/2007 – Present)
• S&P Composite: 1871 – Present (Inflation-Adjusted Secular Highs and Lows)
• The “Real” (Inflation-Adjusted) Mega-Bears

Since I am not the hardcore-type of international investments expert, I want to spare any additional comments on these charts about possible future developments. But there are some amazing similarities…

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There are many resources available on the internet, covering news, industries, stocks, markets, currencies, analysis and options, and much more. In the jungle of the internet, it is not only hard to find a resource, which is truly reliable and offers a high quality of data, but it is just as difficult to find a resource which is easy to understand and navigate.

About a year ago, I had started using Reuters for reading the news and researching companies. However, the site was not very easy to navigate, and at a certain point I had decided to use other resources, such as my own bank, or MSN Money. Last week, I rediscovered Reuters, mainly due to the fact it has greatly changed the look and feel of the website. And I am extremely positive about it, and can only hope that other financial service website will follow this example in future.

Entering the Reuters website, the reader is confronted with a very clean and calm front page. The most important headlines and indices are displayed on the front page already, but unlike the old version you will not be confronted with tons of links, headlines, and articles, which are chaotically organized.

At the top of the website is a toolbar like header. The toolbar allows readers to select the appropriate edition, as well as the different available section, such as News & Markets, Sectors & Industries, and Analysis & Opinion. The Reuters template uses a very clean layout, the top toolbar is on-screen continuously, while the right column offers links to related articles and sections.

Additionally, Reuters offers a very extensive but easy-to-use charting tool. Readers are therewith easily able to conduct a technical analysis on their favourite stocks, using indicators such as Moving Average, RSI, MACD, Stochastics, etcetera.

Generally speaking, I personally believe Reuters has made a big and important step towards a better usability and visibilty of its website. It would be a great pleasure to see other companies and websites follow.

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Last week I have started writing a series about investing and fundamental analysis. But then it came to my mind, that I had not yet even devoted an article to some of the basics, which I believe would benefits each investor (or upcoming investor). Therefore, I want to take some time now to elaborate my personal golden rules of investing.

#1 - buy low, sell high

Ofcourse! Buying a stock when the price is low and selling when it is high makes sense. But yet, many people buy a stock when it is quite expensive already, or when it is about to reach a top. It is a psychological phenomenon: many people will only buy what has been proven to be a good product in order to avoid risks. The problem with stocks, however, is that those good and popular stocks are quite expensive already.

#2 – Research well and take your time

Investing is not about speculation. If you are a serious investor, or if you would like to become one, you should not take hasty decisions or trying to make a 35% profit until next week. Research the market well. Apply the fundamental and technical analysis if you want to, and know what you are buying; be aware of the potential gains, potential losses, and development over time.

#3 – Don’t put all your eggs in one basket.

Diversification is the key word here. Don’t put all your money on one company, but diversify between different companies, different industries, and different regions. This way, if a company or industry is not performing as expected, the other stocks in your portfolio might absorb some of your losses. Additionally, you may want to think about diversifying the products you buy; invest some money in obligations and perhaps real estate too.

#4 – Accept your losses.

Losing some money now and then is part of the game. Therefore, it is smart to identify a stop-loss limit. This means, that you can set a rule such as “if my stock drops 8% I will sell it”. You can simply set the minimum selling price at your broker, and as soon as your stock reaches this limit, it will be sold automatically. Also, as your stock rises, you may want to increase the stop-loss limit also. Many people hold on to their stocks when they are making losses. Although some companies recover fairly quickly, others might not, and you may end up having a non-performing stock in your portfolio for years.

#5 – Selling is as important as buying

Continuously track the performance of your stocks, and attempt to predict future developments. If you thinks that a stock has reached the peak of its potential, you may want to think about selling in order to convert the stock into cash. Selling is just as important as buying, unless you aim at receiving a steady return in the form of dividends.

#6 – Reinvest dividends

Reinvesting the dividends you receive can make a huge impact on the long run; do not underestimate the power of receiving dividends.

#7 – Go your own way

Try to identify what works best for you, and do not follow the main stream. Once people start investing in certain stocks massively, chances are that the really smart investors have already long sold their positions in search for other high-potential stocks.

#8 – Have a long-term vision

Investing is something you do for your long-term development and growth. Therefore, let go of the idea of making fast and immediate profits, but look at investments as a contribution to your personal long-term growth.

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I know, most of you would have expected me to dig into the financials of a company first. However, I have explicitly chosen to write the first article on fundamental stock analysis about the P/E ratio. The P/E ratio stands for Price-to-Earnings Ratio, and might is also referred to as PER.

The P/E ratio measures the price paid per share relative to the earnings on that share, or the Earnings Per Share. The P/E ratio is expressed in years. As such, having a P/E ratio of 8 means that if I would buy 1 share, it would take me 8 years to earn back my investments on that share; A P/E ratio of 30 means that if I would buy 1 share, it would take me 30 years to earn back my investments on that share. Thus, the formula is:

P/E ratio = Price per Share / Annual Earnings per Share

The P/E Ratio can also be expressed in percent:

• A P/E ratio of 8 resembles an annual return 12.5% (becuase 8 times 12.5% is 100%),
• A P/E ratio of 30 resembles an annual return of 3.33%.

From the above examples, it is easy to conclude that a lower P/E ratio means higher annual returns. However, since the Earnings Per Share is related to the actual income of a company, it also makes a statement as to whether the share is relatively inexpensive or expensive considering the company’s current economical situation. Generally said:

• Share with a P/E ratio below 10 is considered as inexpensive,
• Sahre with a P/E ratio above 20 is considered as expensive.

P/E ratios should never be considered alone, but always in the context of the performance of the company. One reason the P/E ratio of a company is low might be simply due to the fact that the company has been somewhat ‘forgotten’, although the company is performing well. However, another reason might be, because the company’s performance is very poor and investors have been selling the shares massively.

Some internet platforms offer the possibility to select shares according their P/E ratio, such as Yahoo! Finance; this allows you to select the more inexpensive shares, and work from there. But you will definitely want to conduct further research as to the company’s future.

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I consider long-term investing in stocks/shares as a crucial element of building wealth; in fact, you will most probably find this confirmed by most personal finance blogs on the internet. This also brings a number of interesting questions, such as how we can pick the best investment opportunities, and on what do we base our investment decisions. In the next few weeks, I intend writing a number of articles, focussed on how to analyze company stocks and investment pportunities.

Currently, there are two main methodologies for analyzing and possibly predicting the future value of a stock or share. These are:

• technical analysis
• fundamental analysis

Technical Analysis

The basic principle of the technical analysis, also called chart analysis or market analysis, is to identify potential buying or selling signals, and generally predict the future development of a stock price by its historical price and volume data. While doing this, the actual company data (e.g. annual reports, strategies, developments) as well as other economic factors are are not being involved in the technical analysis. Technical analysis is based on the fact, that particular price and volume patterns in the past have frequently been followed by a particular price and volume movement. Technical analysts attempt to identify these patterns, via the calculation of many different indicators, aiming at identifying buying and selling signals.

Technical analyses can be conducted using different time frames; long-term, mid-term, or short-term.  Additionally, technical analysis is largely based on the fact, that a stock’s price is largely determined by supply and demand of investors, irrelevant to what the actual company is worth. However, many technical analysts combine their technical findings with current macro and micro economic trends, in order to find whether these are in line with each other or not.

The topic of using technical analysis as a stock analysis method is quite controversial, as it does not attempt to involve the actual company’s performance. Many analysts swear by the technical analysis, others prefer using fundamental analysis methods.

Fundamental Analysis

The fundamental analysis is based on researching the fundamentals of the economy and the company. The fundamental analysis includes analyzing the annual reports of companies, specific ratios, the strengths and weaknesses of a company, potential development opportunities or threats, as well as macro economic developements. Fundamental analysts assume that generally the stock price reflects a company’s real performance, keeping in mind that sudden micro or macro economic news, market fluctuations, or sudden panic might let the stock deviate from its course. The fundamental analyst therefore attempts to identify which stocks are undervalued, overvalued, yearly earnings, and future potential.

Fundamental analysis is adopted by many large financial institutions, who publish their mid- and long-term view on a particular stock’s development. Also Warren Buffett used the fundamental analysis to select his stocks, or why do you think that the book “Warren Buffett and the Interpretation of Financial Statements” is about a company’s financials rather than technical analysis?

Each person will have his or her own preferences. Myself, since I aim to invest with a long-term vision and also share the idea that generally a stock will move in the direction of a company’s performance or potential, tend to adopt the fundamental analysis as my main investment strategy.

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